Using Fear to Boost Your Trading Performance

By Galen Woods ‐ 4 min read

How much trading profits are you missing out due to fear? Instead of letting fear disrupt your performance, use it to improve your trading performance.

Fear in Trading

Are you fearful when you trade? Or are you fearless when you trade? What is the link between your fright and your trading performance?

“Fear” is often stated as one of the twin emotions that plague traders together with “Greed”. In fact, as long as this pair psycho-brothers are around, market behaviour will never change. It will always move in cycles of boom and bust.

In that case, emotions are bad for trading performance, right?

Not really.

Market Fear Powers Profits

The fear and greed wreaking havoc among traders and investors is the source of profitable trading setups. If the market is not affected by emotions and its related cognitive biases, the market will be a lot more efficient. It will be a lot harder to make money. (One of the key assumptions in the efficient market hypothesis is that its participants are rational.)

Since we aim to make money from the market, we should rejoice that the market is an emotional one.

Okay, I understand that if the market is emotional, I get more trading opportunities. But I should stay without emotions to make full use of these opportunities, right?

Again, not true.

A Healthy Dose of Fear for Trading Better

Fear is a natural protective mechanism. We cannot and should not turn it off.

Humans always experience fear. Some traders think that by using automated trading systems, they are able to trade without fear. This is not true. These traders can turn off or change their trading systems if they want to. Thus, a trader using automated systems must still make sure that his decision to interfere with the trading system is not driven by fear.

Even if we can mute our feelings of fear, we should not.

Fearless is not the Answer

Only a trader who does not understand the market can be fearless in it. There is every reason to fear the market. The market is beyond the control of anyone, and is largely unpredictable. It has the potential to ruin entire economies, not to mention your retirement nest egg.

When trading the markets, it pays to have a healthy dose of fear.

Response to Fear is the Key

There is another reason why getting rid of fear is not our concern. Fear is not the root of our trading woes like lack of discipline or over-trading. It is our response to fear that screws things up.

It is fine to be afraid that your next trade will be a losing one. But when you react destructively to it, you have a problem. You react to your fear of a losing trade, and start to ignore your trading rules. You cut your profits short or tighten your stop-loss prematurely. Such reactions will decrease your profits in the long run.

Instead of reacting destructively when you feel scared, try to respond constructively. Think of why you feel fearful? Perhaps your position size is too big for the size of your trading account?

Then, the correct response is to take a smaller position. In this case, our fear alerted us to the danger of trading a large position, and we have responded to cut that risk.

Excel with Fear

The best traders move beyond that. They recognise fear in the market and capitalise on it to make money. For instance, they find price points where there would be an exodus of frightened trapped traders. Then, they take advantage of the order flow they create and profit from them using price action trading setups.

To do so, they cannot be emotionless themselves. They must also experience fear, before they can learn to recognise it in others. The difference is that rather than reacting to their fear destructively, they turn it to their advantage.

Embrace Fear To Boost Trading Performance

Understand that fear:

  • creates profitable market inefficiencies,
  • highlights danger in our trading activities, and
  • pinpoints trading setups.

It is time to change our opinion about fear and embrace its benefits.

Want concrete steps to improve your trading psychology?

I recommend Brett N. Steenbarger’s The Daily Trading Coach: 101 Lessons for Becoming Your Own Trading Psychologist